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FRAUD ALERTS
FRAUD INSIGHTS
Portfolio Management and Fraud Detection/ Prevention, Amid COVID-19 BY JEFFREY BRANDLIN
The financial hardship resulting from the COVID-19 pandemic is causing multiple issues for traditional and non-traditional asset-based lenders (ABLs). As the pandemic continues, some companies are converting their revolving credit facilities from cash flow-based to secured asset-based lines of credit to increase liquidity. Should an asset-based lender play offense or defense in the existing market? How does the asset-based lender manage and balance its existing portfolio while ensuring unscrupulous borrowers do not take advantage and harm a financial institution? Answers to those questions and more are discussed below. Undoubtedly, there is an increasing secondary market to provide bridge and rescue financing secured by assets. Credit managers and risk officers are closely reviewing transactions underwritten over the past few years and possibly adjusting their credit underwriting practices. How do ABLs react to the ever-changing environment?
Debt covenants Financial covenants will be affected. Debtors are likely to stretch their creditors while cashflow is impaired. Accounts receivable dilution, cross aging and concentration limits are all likely to be tripped. Possible Solutions: Identify and segregate pre-and postCOVID-19 receivables and assess the customer base directly or indirectly affected by COVID-19 closures. Consider adjusting 38 the eligibility requirements for a predetermined time period to THE SECURED alleviate near-term credit default. The frequency of reporting LENDER JUNE/JULY 2020 should be increased to permit close monitoring of eligible collateral. Cash dominion should also be triggered to gain stronger control over cash receipts. Creative solutions coupled, with increased monitoring or cash controls, may warrant assisting the borrower.
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Borrowing base and eligible collateral Borrowers may have maximized their lines of credit to obtain cash to meet their liquidity needs over the coming months. Supply chain disruption may be impacting a company’s ability to replenish inventory, resulting in a decrease of eligible inventory. Possible Solutions: Assessment of the JEFFREY BRANDLIN borrower, its integrity, its Brandlin & Associates credit history and industry vertical should be performed to determine if a temporary increase in the advance rate or reduction of reserves is advisable/permissible. The recent market disruption and unprecedented volatility should subside. The efficiency of supply chains should return, and some level of normalcy is expected in the markets.
Audits and valuations Because of the shift in social behaviors and government advocation for social distancing, on a practical level ABLs and borrowers alike should consider whether it is possible for onsite audits and valuations to be undertaken. Possible Solutions: The inability to perform onsite inspections should not deter ABLs from performing corroborative procedures to assess the reasonableness of the borrower’s reported collateral figures. Collateral rollforwards, turnover ratios, gross margin analyses, cash-torevenue reconciliation and other tests can be performed with a high degree of accuracy. On the other hand, appraisal and liquidation values are subjective amid the disruptive markets. Logic and reasonableness should support experienced ABLs that the world is not coming to an end. Net orderly liquidation values (NOLVs) from prior appraisals should be a reasonable benchmark, assuming the industry vertical is not completely decimated by the shutdown or not expected to recover.
Debtor insolvency Undoubtedly, some industries and companies are more susceptible to the pandemic than others. Possible Solutions: In such circumstances, the asset-based lender may consider applying pre-emptive reserves, lowering debtor concentration limits by restricting exposure to specific debtors, industries or geographical locations. The assetbased lender can also designate higher risk credits simply as ineligible for funding.